Industry policy delivered through the budget
Governments will tend to devise policies that seek to promote the development of local industries. These policies are typically delivered through the budget and are commonly referred to as ‘industry policies.’ The direction and scope of industry policy in Australia have shifted significantly over the past 30 years. Historically, industry policy played a very important part in the Government’s policy mix. Selected industries were targeted for special assistance in the form of subsidies and tariffs as there was a widespread view that net economy-wide benefits would be achieved in terms of higher output and employment.
Increasingly, government policy makers were subject to increasing amounts of business lobbying and the level of assistance grew, particularly within the textile, clothing, footwear and motor vehicle industries.
Since the 1970s, however, research emerged that suggested any selective industry assistance actually created longer term net costs to the economy because industries became increasingly reliant on government support. Protection from competition only served to stifle efficiency and delay large scale restructuring that was desperately needed if Australia was to remain (or become) internationally competitive. In particular, studies showed that the support provided to selective industries imposed real costs on the rest of the economy. As a consequence, successive governments sought to remove many forms of assistance in acknowledgement of the net gains to be made from this approach.
Today, industry policy is generally limited to the provision of government support to the business sector in situations where there are clear longer term economy wide benefits. Importantly, there has been a general move away from support to specific industries to more general industry support, despite some obvious exceptions (such as those relating to the motor vehicle industry). Typically, this support is provided in situations where there is a demonstrated market failure that inhibits valuable investment from taking place. In other words, if businesses make decisions based on ‘market signals’ (or relative price changes) that are distorted, this can result in sub-optimal Investment or production decisions. The most common examples are the economic effects of a drought or the ‘spillover’ benefits (i.e. positive externalities) that are enjoyed when investment in research and development (R&D) takes place. Assistance is also given to renewable energy producers to improve inter-temporal efficiency and reduce the production of negative externalities from the burning of fossil fuels.
With respect to drought funding, governments will provide support to the agriculture sector when it is clear that normal ‘market signals’ could lead to the closure of otherwise ‘viable’ farms. A drought will result in large financial losses for some farmers, which could be the precise signal that forces farmers to cease operations. The continued operation of these farms provides the community with substantial positive externalities (or social benefits), such as guaranteed food supply and environmental benefits. Accordingly, their survival during drought or other natural disasters may depend upon government industry support.
With respect to investment in R&D, the Government recognises the clear links between R&D spending, innovation, productivity and international competitiveness. It therefore offers generous tax concessions to businesses that invest in R&D. Without government assistance, an under-investment in R&D will occur because the market is unable to factor in (i.e. internalise) the positive externalities associated with R&D expenditure. Accordingly, innovation in the economy will be less than optimal and AS levels (or productive capacity) will be below their potential levels.